Appeal Number: MAN/2008/1131

[2011] UKFTT 622 (TC)

TC01464

Appeal number: MAN/2008/1131

VALUE ADDED TAX- – MTIC-sale of apple I pods and other electronic equipment- appellant in ‘clean chain’ claiming repayment £673,493.65 - appellantknew that the deals were part of a VAT fraud in three associated chains –- appeal dismissed

FIRST-TIER TRIBUNAL

TAX

J P COMMODITIES LIMITEDAppellant

- and -

THE COMMISSIONERS FOR HER MAJESTY’S

REVENUE AND CUSTOMS (VAT)Respondents

TRIBUNAL: DAVID S PORTER (Judge)

GEOFFREY NOEL BARRETT(Member)

Sitting in public in Manchesteron 9, 10, 11,12, 16,17,18,20 May 2011

Prithpal Singh Johal, Managing Director of J P Commodities Ltd, appeared for the Appellant.

MrJoshua Shields, of counsel,instructed by the General Counsel and Solicitor to HM Revenue and Customs for the Respondents

© CROWN COPYRIGHT 2011

1

DECISION

1. Prithpal Singh Johal (Mr Johal), Managing Director of J P Commodities Ltd (Commodities), appeals on behalf of Commodities against the decisions of the Respondents (HMRC) contained in a letter of 16 July 2008 (as clarified in letters dated 12 September 2008, 29 September 2008 and 21 October 2008) denyingCommodities’entitlement to a repayment ofinput tax of £673,493.65 in respect of the period 09/06 arising from the export of Apple Ipods, Creative Zen, I-River, Archos and other electrical goods to Imperia in Poland and Gredis in Antwerp. Mr Johal says that Commodities neither knew nor ought to have known that the transactions were connected with fraud. HMRC say that the Appellant’s due diligence was no more than window dressing and any reasonable businessman would have known or ought to have known that the transactions were connected with fraud or with a fraud in a related chain. HMRC submitted that Commoditieswere parties to the frauds.
2. Joshua Shields (Mr Shields), of counsel, appeared on behalf of HMRC. Mr Shieldsproduced both a skeleton argument and written submissions by way of summing up. He called the following witnesses, who gave evidence under oath:

Susan Margaret Tressler (Mrs Tressler) a member of HMRC MTIC team gave evidence as to the dealings by P & M Transport and Communications Limited (P&M).

Jennifer Thelma Davis (Mrs Davis) a member of HMRC MTIC team gave evidence as to the dealings by Commodities.

Farzana Shaheen Malik (Mrs Malik) attended with Mrs Davis when investigating Commodities

The following unchallenged witness statements were produced to the tribunal and treated as evidence in chief.

Roderick Guy Stone (Mr Stone) who produced a witness statement which has not been challenged as to MTIC fraud in general

Kathryn Judith Rees(Mrs Rees) a member of HMRC MTIC team produced a witness statement which has not been challenged as to the dealings by J S R Limited.

Walter Watt (Mr Watt) a member of HMRC MTIC team produced a witness statement that has not been challenged as to the dealings by P F Williams Trading Limited.

Mr Liban Ahmed (Mr Ahmed) of C M T Limited of 9 Lower Brook Street, IpswichIP4 1AG, had been instructed byCommodities to prepare this appeal for the hearing. They did not appear at the hearing as Mr Johal, on behalf of Commodities, indicated that Commodities were unable to pay their costs in relation to the hearing. Mr Ahmed, produced a skeleton argument on behalf of Commodities and Mr Johal produced written submissions by way of summing up and gave evidence under oath

We were also provided with 20lever arch files a large number of which contained details of HMRC’s witnesses’ working papers.

1. We were referred to the following cases:

Axel Kittel and another v Belgium [C-439/04]

Blue Sphere Global Ltd v HMRC [2009] EWHC 1150 Ch,STC 2239

Calltel telecom Ltd; and another v HMRC [2009] EWHC 1081 (Ch)

Livewire Telecom Ltd; and another v HMRC [2009] EWHC 15 (Ch)

Mobilx ltd (in administration) v HMRC [2009] EWHC 133 (Ch)

Megtian v HMRC [2010] EWHC 18 (Ch)

Moblix Ltd (in administration); and others v HMRC [2010] EWCA Civ 517

POWA (jersey) Ltd v HMRC [2009] UKFTT

Radarbeam Limited [2010] UKFTT 431 (TC)

Red 12 Trading Ltd v HMRC [2009] EWHC 2563 (CH)

HMRC v Brayfal Limited [2010] FTC 53 (Brayfal)

4. Most readers of this decision will be familiar with the way in which Missing Trader Fraud operates. Dr John Avery-Jones gave a helpful introduction in Livewire Telecom Ltd; and another v HMRC [2009] EWHC 15 (Ch):

“In order to demonstrate where the loss arises from MTIC fraud we start with a simple example of an import of goods by X, who sells them to Y, who exports them. The tax on acquisition (import) by X is cancelled by input tax of the same amount, and the output tax charged on the sale by X will be cancelled by the input tax repaid to Y on the export, so that the United Kingdom exchequer receives no net tax”.

If both X and Y are fraudsters Y will have to finance the output tax charged by X because X disappears with it, and Y will recover the same when it is repaid to Y by HMRC on Y’s repayment claim.

“The only gain by the fraud is if HMRC pay the input tax to Y, when the exchequer is left with the loss of the amount of the import tax: The non-payment of the output tax by X is merely the recovery of what Y put in. If the exporter is innocent of that fraud he is entitled to repayment of the input tax that he has actually paid even though this represents tax never paid by X and the exchequer is left with the same loss of the amount of input tax”.

In his example X is the defaulter and Y the Broker. The chains are often longer as they include intermediaries, known as Buffers, who are introduced to confuse HMRC and to make the transaction harder to trace. The 5 deals the subject of this appeal form part of a VAT chain where there has been no VAT tax loss. HMRC claim that the VAT due from P & M Transport (UK) Limited (P&M) has been set off against P&M other trades where P&M have not paid the VAT due from them to HMRC.

5. The case law, as now developed in Moblix Ltd (in administration); and others v HMRC [2010] EWCA Civ 517, provides that an exporter will not be innocent if he knew or ought to have known that his transaction was connected with the fraudulent avoidance of tax.

6. We think it would be helpful to set out how the money flows in such schemes and, in that regard we have been much helped by the evidence given by Mrs Davis. Mr Stone, who did not appear, but whose witness statement we have read, also confirms that losses to HMRC only occur in all of these transactions when a repayment is made to the Broker, in this case the repayment claimed by Commodities. He states at paragraph 6 of his witness statement that there are two forms of MTIC fraud, namely ‘acquisition’ fraud and ‘carousel’ fraud. An MTIC acquisition fraud, as described above by Judge Avery-Jones, is a commodity based fraud in which VAT standard-rated goods or services are purchased zero-rated for VAT purposes from a supplier based in another EU member state and sold in the UK for domestic consumption. The importer, who is officially known as the ‘acquirer’, subsequently fails to account for the VAT due on the standard rated taxable sales to its UK-based customer(s), which then impacts on HMRC’s VAT receipts. MTIC ‘carousel’ fraud, which is sometimes referred to as ‘MTIC export fraud’, is a financial fraud and is an abuse of the VAT system that results in the fraudulent extraction of revenue from the UK Treasury. The fraud predominantly involved computer chips and mobile phones. The finance for the deals is provided from an outside source and is introduced to the chain when the Broker is paid by his European customer. It then cascades down the chains, each trader withdrawing their agreed profit and paying their appropriate amount of VAT. That VAT is often very small (apart from the Brokers repayment claim) because the intermediate Buffers can set off their input tax against their output tax. The money is then returned to the original funder.

7. The participants in the chain are all seen to make a small profit. It can be seen from the deal table at paragraph 58 that Commodities appear to have made a consistent mark up of 3.50% on the sale price for its goods.Apart from the defaulter (who ostensibly purchases the goods from Europe) each of the traders thereafter makes appropriate VAT payments to the Revenue. However, they do not necessarily pay each other the correct amounts, either under the apparent contracts, or of VAT. The participants are required, if the transactions are fraudulent, to make an initial contribution to the scheme. In the example below only half the VAT liability due to their supplier has been paid, so that the participants carry some of the risk and thereby reduce the risk of the fraudsters receiving nothing. When the repayment is obtained by the Broker, he will have sufficient money to take the balance of his profit and to pay his outstanding VAT liability to his supplier. That supplier will then be in a position to pay his outstanding VAT to the defaulter, who will then receive all the VAT he should have paid to HMRC, but which he intends to keep, less the contribution to the profits and VAT down the chain. The vast majority of these transactions were handled by The First Curacao International Bank (FCIB) in the Dutch Antilles in sterling although the participants were, in part, European. However, by the time of this appeal FCIB was about to be closed down by the Dutch authorities and many of the fraudsters migrated to ICB Bank. The UK VAT repayments are made to the Brokers in sterling. The payments for the goods do not appear to follow the total amounts due under each contract but are often paid in a random fashion. Later invoices being paid with earlier funds. The speed with which the payments are made indicate that the payments are orchestrated by the fraudsters. It is unlikely that the several traders in a chain would be available at their computer consoles to make the payments in the time scales suggested. The outsider, who financed the transaction from the beginning, is presumably repaid his original loan plus any agreed interest.

8. Carousel fraud was rife from 2003 up to 2007, when the reverse charge was introduced. Any loss to the exchequer only occurs when the input tax is refunded on a repayment claim. HMRC had been repaying substantial sums of money, in many cases well in excess of £10,000,000. The total loss to HMRC during those years amounted to in excess of £20 billion. It appears that many of the frauds have been financed by third parties outside of the various transaction chains.

9. Example

The participants are

A”, the trader, in Europe sells the goods to “B” in the United Kingdom (the defaulter). “A”, or an outside Financier,provides the money to “E” at the top of the chain, which is retuned to “A”, or the financier, when the payment cascades down the chain back to “B”

“B”, the defaulter, who purchases the goods from Europe, sells the goods to “C” and charges VAT on the sale but does not account for the VAT to HMRC but pays it to the fraudsters.

C”, a buffer, sells the goods to “D” and having purchased them from “B” pays VAT to HMRC being the difference between the VAT he paid to B and the VAT he charges to “D”retaining a small profit for himself

“D”, the broker, who seeks repayment from HMRC, sells the goods to “E” having paid VAT to “D” but who is unable to charge VAT to “E” and applies for the repayment of the VAT he paid to “D”. He retains a larger profit for himself and pays the balance to “D” to cover the shortfall in the earlier payments.

“E”, the customer, in Europe returns the goods to the fraudsters so that they can go round again- hence the “carousel”

As all the transactions are ‘back to back’.That is the traders only pay for their goods when they are paid. Frequently they do not pay a large part of the VAT as they rely on the repayment to make up the shortfall.

Many of these transactions took place through the FCIB, which appears to have been the bank of preference. It was closed down by the Dutch Authorities in 2006 and many of the accounts appear to have migrated to International Credit Bank Ltd (ICB) registered in Panama with its head office in Switzerland. All the money appears to have taken a very short time to pass through both Banks, so that the initial funding, in the example £1,015,050, is only at risk for a short time so long as all the participants pay their share of the money as soon as they receive it.

• A (in the EU) sells the goods to B (the Defaulter) for £1,000,000
• B sells the goods to C (the Buffer) with a profit of 1% for£1,010,000

B charges VAT of £176,750 at 17.5 %

• C pays the full price for the goods and half the VAT of £88,375 to B and sells the goods to D (the Broker) with a small profit of ½ % for £1,015,050

(C charges VAT of £177,633.75 at 17.5% to and C pays VAT to

HMRC of £883.75 the difference between the £177,633.75 and £176,750)

• D pays the full price for the goods but only pays half his VAT liability of £88,816.88 by way of payment of the VAT to C and sells the goods to E (in the EU) with a profit of 6% (£60,903) for £1,075,953
• E pays D the full price for the goods less D’s profit and no VAT £1,015,050

leaving D to recoup his profit and his VAT liability to C from the repayment.

• D applies to HMRC for a repayment of VAT of £188,291.78

being 17.5 % of £1,075,953 (his selling price and assuming,

for the sake of this example, there is no other VAT).

• D obtains a repayment from HMRC of £188,291.78 D recovers his VAT payment of £88,816.88

and the balance of his profit of £60,903.00 £149,719.88

Leaving a balance £ 38,571.90

D owes a further £88,816.87 by way of VAT to C, who accepts the sum of £38,571.90 which C then pays to B as the balance of the VAT that he presumably has agreed to pay to clear his liability having agreed everybody in the scheme could keep some profit..

As a result the participants receive the following:

A/B have already received part of the VAT from C £88,375.00

and receive the balance above £ 38,571.90

making a total which they keep and do not pay to HMRC £126,946.90

C receives his profit of£ 5,050.00

Less the VAT paid to HMRC of £ 833.75

Making a profit of £ 4,216.25

D receives his VAT of £88,816.87and his profit of £ 60,903.00

D will be normally be operating on a monthly VAT cycle and C on a quarterly cycle. If the sale to E can be brought as near to D’s month end as possible, the repayment will be accelerated.

10. As the fraudster expected to obtain the repayment from D, D would only need to pay a proportion of the VAT and take some or none of his profit. He can recoup the shortfall or the entirety of his profit from the repayment. That way, the fraudsters ensure that they receive the appropriate amounts from the fraud and D will obtain a refund of the money he had introduced to the chain. As Mr Stone has indicated the fraudsters are all expected to put money into the ‘pot’ so that further frauds can be generated. The middleman C only makes a small profit because he effectively does very little and takes very little risk. He merely pays the price for the goods with the money provided by A. The Broker, D, usually takes the largest profit (6% of the selling price) because he takes the risk that the repayment may not be made. All the parties require the monies to be paid as soon as they are received to minimise the risk of a party failing to make a payment and they need to be participants in the scheme to ensure that the money is dealt with properly.

1. HMRC introduced a more robust verification system in 2006 and as a result the fraudsters changed the shape of the scam. As a result, instead of making repayment claims in excess of £10,000,000 the fraudsterscreated another chain (an apparent ‘clean – chain’) dealing in goods other than mobile phones and computers, and the Broker appeared in the new chain as well as the dirty chain. In that way the Broker was able to set off the output tax in supplying the clean chain in the United Kingdom against the input tax he had incurred on a transaction from Europe in a similar chain. When HMRC received the application from the Broker in the clean chain, it would not be alerted to the fact that the repayment in that chain was financing the fraud in the dirty chain. As a result a considerable VAT liability could be washed out of the system without alerting HMRC and the repayment claim in the dirty chain is reduced to a substantially lower figure in the Broker’s return.This case relates to Commodities 5 deal chains linked to contra-trading chains.

The Legislation.

12.The right to deduct is contained in sections 24 -29 of the Value Added Tax Act 1994 (the Act). Section 25 requires such a person to account for and pay any VAT on the supplies of goods and services which he makes and entitles him to a credit of so much of his input tax as is allowable under s 26: see s 25(2). Section 26 gives effect to what is now Article 168 of EC Council Directive 2006/112 (the VAT Directive) and allows the taxable person credit in each accounting period for so much of the input tax for that period as is attributable to supplies made by the taxable person in the course or furtherance of his business: see s 26(2) These provisions are in mandatory terms. If a trader has incurred input tax, which is properly allowable, he is entitled, as of right, to set it against his output tax liability or to receive a repayment if the input tax credit due to him exceeds that liability. He is required to hold evidence to support his claim (see article 18 of the Sixth Directive and regulation 29(2) of the Value Added Tax Regulations 1995 (SI 1995/2518). As a result the right to deduct or the right to a repayment is absolute, and no element of discretion is conferred on the tax authority, save that the authority may accept less evidence than normally required; it has no right to demand more evidence than that prescribed by article 18. The right is also immediate, that is it may be exercised “when the deductible tax becomes chargeable”. The only limitation is the practical one that, although deductibility is determined on a transaction by transaction basis, the mechanical process of deduction or repayment is effected by reference to prescribed accounting periods.